Intricate process to bring network to fruition

Telstra
sought to reassure the market that its prodigious cash flows would be protected even as it agreed to give up the world-leading 60 per cent margins it makes on its home phone network.

The news came as Moody’s Investors Service put the company’s credit rating under review for a possible downgrade, saying its “current A2 rating incorporates the beneficial impact of Telstra maintaining the network business and its high profit margin".

Under its $11 billion deal with NBN Co and the government, Telstra will receive payments for disconnecting, progressively, services on its copper and its cable network (but not pay television services on cable) and transferring them to the fibre-optic national broadband network.

Telstra estimates the fees will rise until 2014 as the project gains momentum, then stay relatively constant over the remainder of the 10-year roll-out, and be worth $4 billion in net present value after tax.

“Put another way, $4 billion is expected to replace any market share loss and margin dilution in [Telstra’s] fixed line business," the company’s chief financial
John Stanhope
told analysts and investors, pointing to a marketing blitz that Telstra expects from rivals as the network is implemented.

“There is a destructive event about to occur whereby every door in Australia is about to get a knock from companies saying ‘come with me, I’m a great internet service provider’," he said.

Telstra will also get infrastructure rental payments for an average of 35 years from NBN Co worth approximately $5 billion in post-tax net present value terms, in return for giving access to its duct network and other infrastructure to speed up the network’s installation. NBN Co has an option to extend the rental agreement to 55 years.

“The $5 billion is new cash that is utilising some of the assets we’ve got," Mr Stanhope said. “The combination of those two give us a whole lot of confidence about . . . our cash flow levels. We also expect to grow other areas of our business that give us further confidence about our future."

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Telstra chief executive
David Thodey
reminded investors of the reassurance given by the company’s chairman
Catherine Livingstone
that the company could maintain its 28¢ dividend this financial year and next and would consider cash returns if the deal was completed.

“Our operating momentum is good but it is not lost on us that many shareholders are concerned about the sustainability of our cash flow – for a company with the number of shareholders that Telstra has, that is a significant thing. The deal provides lower risk and better free cash flow for the company."

In the third part of the deal, the government has announced a restructuring of the Universal Services Obligation (USO) and a series of other reforms and commitments that Telstra values at $2 billion after tax.

Under the deal, Telstra will hand its USO [to provide a fixed line to every home in Australia including in unprofitable areas] to NBN Co for fibre areas and to a government-owned entity, to be known as the Telecommunications Universal Service Management Agency, in the 7 per cent of the country that will be covered by wireless and satellite services.

TUSMA will be charged with maintaining copper lines in areas for people who want to keep a fixed line and will be funded by an industry levy, which analysts yesterday warned would have to rise.

“Although there is a saving here, the risk is that Telstra retains material costly obligations and these may increase in cost in an NBN environment," said Ian Martin of the Royal Bank of Scotland.

Telstra stressed that the agreement was conditional on “arrangements being in place for the appropriate reform of the USO".

It was one a series of conditions on the $11 billion deal, which is also subject to clearance from the Australian Taxation Office.

The deal stretches to 1700 pages and eight contracts, but most of it will not be made public because it is said to be commercial in confidence.

Analysts expressed surprise that Telstra had agreed not to market its fast-growing wireless broadband offerings as an alternative for the NBN for 20 years.

Mr Thodey indicated that this clause, which is designed to prevent Telstra from damaging the financial prospects of Labor’s new fixed-line monopoly, was conditional on Telstra not being put at a competitive disadvantage as a result of complying with it.

Telstra has secured a valuable commitment by NBN Co to pay out the rental agreements on any Telstra infrastructure it is already using for the project in the event that the NBN is scrapped by a future government.

Telstra could also continue to use its copper and cables in areas not yet covered by a cancelled NBN and could reconnect customers that would otherwise be stranded on fibre. A shareholder vote is scheduled for October 18 in Sydney.